How startup funding rounds work, from seed to Series C

Pre-seed and angel rounds are the first money, often from the founders' friends, family and individual investors known as angels, used to build a first version. A seed round, usually the first from professional investors, pays for the product and the first customers. A Series A round comes when the company can show that people want what it sells and that the business can be repeated; it pays for a team and for finding customers at scale. Series B and later rounds fund growth: new cities or countries, new products, bigger sales teams.

The letters are conventions, not rules, and the sizes of cheques differ by country and by year. Between rounds there are also bridge rounds, which keep a company going until its next big raise, and venture debt, which is a loan rather than a sale of shares.

The pre-money valuation is what the company is deemed to be worth before the new money arrives, and the post-money valuation is that figure plus the new money. If investors put in ₹10 crore at a pre-money valuation of ₹40 crore, the post-money valuation is ₹50 crore, and the new investors own 20 per cent.

That 20 per cent comes from everybody else. A founder who owned 60 per cent before the round owns 48 per cent afterwards, which is 60 per cent of the remaining 80. Companies also set aside a pool of shares for employee stock options, which dilutes the others too. Founders accept dilution because a smaller share of a growing company can be worth more than all of a stalled one.

Pre-money valuation   ₹40 crore
New investment        ₹10 crore
Post-money valuation  ₹50 crore
New investors own     10 / 50 = 20%
Founder: 60% x (1 - 0.20) = 48%

Investors usually receive preferred shares, which carry rights that ordinary shares lack. A liquidation preference means they are repaid first if the company is sold. Others include a seat on the board, protection against future rounds at a lower price, and a say in major decisions. These terms are set out in a term sheet before the final agreements are signed.

Early rounds are sometimes done with a convertible instrument, a promise of shares in the future at the price of the next round, instead of shares today. In India, rounds are often structured with compulsorily convertible preference shares, which convert into ordinary shares at a set time or event.

A unicorn is a privately held startup valued at $1 billion or more, a term coined by the investor Aileen Lee in 2013. A down round is a raise at a lower valuation than the one before, which is painful for existing shareholders. Runway is the number of months a company can operate before it runs out of cash, found by dividing the cash in the bank by the monthly burn rate, the amount of cash it loses each month. A company with 18 months of runway has time to fix problems; one with 4 months is negotiating from weakness.

Check who led the round, since a well-known lead investor is a signal in itself, and whether the valuation is stated or only reported from sources. Check whether the headline figure includes secondary sales, where existing shareholders cash out part of their stake, because that money does not go to the company. Money announced is not always money received: funding is sometimes paid in instalments tied to milestones. Finally, ask what the company will do with the money, because that tells you more about the business than the size of the number.

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